A home equity line of credit (HELOC) is a type of loan that allows you to borrow against the equity in your home. HELOCs typically allow you to borrow a percentage of the difference between the market value of your house and the outstanding mortgage balance. Many homeowners utilize HELOCs to raise the value of their houses by making modifications.
Getting the best possible rate is an important part of making the most of your HELOC. HELOCs typically have variable interest rates, which means the interest you pay back varies from month to month — even if you do not borrow extra funds during the draw period. When you’re considering a HELOC, it’s best to shop around.
In this article, you’ll learn what impacts HELOC rates, how to compare different lenders and how to negotiate your rates. Plus, you’ll get a few tips that may help you find the best rate for your HELOC.
Many factors determine the interest rates that lenders offer on HELOCs, including your credit score, debt-to-income ratio (DTI), the amount of home equity you can draw on, and your credit history.
Credit Score
Your credit score is one of the main determinants of your HELOC’s interest rate, as it represents your reliability as a borrower. If you have a high credit score, your lender will likely offer you a lower interest rate because the lender perceives you as being less of a risk.
A credit score of 760 or above is ideal when you are shopping for a deal on your home equity line of credit. You can improve your credit score by consistently making existing credit payments on time, disputing any errors on your credit report and keeping your credit balances low.
Debt-to-Income Ration (DTI)
Much like your credit score, your DTI ratio helps lenders determine how risky it is to lend to you. Debt-to-income ratios measure your existing debt against your gross monthly income. If your DTI ratio is too high, lenders may not be confident that you will be able to repay your loan on time every month.
When looking for a new line of credit such as a HELOC, it’s helpful to have a DTI ratio below 36%, which may help you secure a lower interest rate.
Other Factors
Other variables that lenders may look at include your tappable home equity and your credit history. You are more likely to get a better interest rate on your HELOC if you have 20% or more equity in your home.
Your credit history, however, is a little more complicated. Your credit history tells lenders how you have previously used credit. Lenders typically offer the best rates to applicants with low credit utilization and a mix of different credit types.
Best Ways to Get the Best HELOC Rates
Below are a few strategies that may help you get the best HELOC rate and pay less interest in the long run.
1. Compare HELOC Lenders and Get Multiple Quotes
One way to get a better interest rate on your HELOC is to get quotes from several lenders online before beginning the application process. While it may be tempting to get a HELOC with your existing mortgage provider, you could be signing yourself up for a higher rate than necessary by settling for the first lender to give you a quote.
There are different lender types, so it’s important to look at different banks, federal credit unions and online lenders before applying for a HELOC. When comparing lenders, review loan terms, fees and rates to do a side-by-side comparison. The best way to do this is to create a comparison table where you can fill in specific terms for each lender.
Additionally, research lenders to find out what it’s like to work with them. Online ratings and reviews may help you get a better understanding of what it’s like to work with a lender from a borrower’s perspective.
It’s also important to find out how long the lender has been in business and what the company’s reputation is before signing a HELOC agreement. Websites such as the Better Business Bureau may allow you to see reviews and ratings so you can find the best HELOC lender for your financial situation.
2. Negotiate with Lenders
Another strategy that can help you get better rates and terms on your HELOC is to negotiate. The lender may be open to negotiation after giving you a quote, especially if you have a previous relationship with the company. To get some leverage in your negotiations, get competing offers from other lenders.
Some lenders may be firm in their initial rates, but it may be worth a try to negotiate other areas of the quote like rate locks and origination fees to get the best deal possible.
3. Consider Locking In Your Interest Rate
Since most HELOCs come with a variable interest rate, this leaves room for volatility in the interest portion of your payment as the market fluctuates. Depending on the current state of the economy, it may be worth considering a HELOC with a rate lock or fixed-rate option.
Securing your interest rate for a specific period may remove the worry that market volatility will affect your ability to repay the loan. In some cases, having a fixed interest rate may allow you to secure a lower interest rate than you’d pay with a variable rate subject to market rises.
Read Also: HELOC Rate Locks: Are They Worth it?
On the other hand, this same principle could also work against you. If market rates drop, you might miss out on lower rates and lower payments. Ultimately, it’s important to understand how market fluctuations are expected to affect your interest rates before taking advantage of a fixed-rate HELOC.
Of course, the terms of rate lock options depend on your lender. You may have to pay a fee for the privilege of using a rate lock or commit to a specific duration of time in which the fixed rate is in effect. Speak to your lender about your options to potentially hedge against the risk of variable interest rates costing you more down the line.
4. Add a Qualified Co-Borrower
Adding a co-borrower to your HELOC can be a valuable option when you are trying to get a lower interest rate on your line of credit. A co-borrower signs on for the HELOC with you, taking on liability for repayment. Adding a co-borrower to your HELOC may help you get a lower interest rate if the co-borrower has good credit.
Having a co-borrower on your HELOC allows you to reap the benefits of combined incomes. With a co-borrower, the lender uses both incomes to determine the terms of the line of credit, which can potentially reduce your interest rate. It’s important to keep in mind that the process of adding a co-borrower means they accept responsibility for the HELOC and are also liable for repayment.
5. Improve Your Financial Profile
To get the best HELOC rates, make sure your financial profile is in order. Your financial situation and credit history tell lenders how you will handle the repayment of any lines of credit you open in the future.
Before you apply for a new line of credit, pay down existing debts to lower your credit utilization and free up income to make your new monthly payments. Establishing and maintaining healthy financial habits shows lenders that you can manage your money responsibly and handle the repayment obligations on a HELOC.
6. Understand the Prime Rate
The interest rate on your HELOC is determined by the prime rate plus an additional margin added on by the lender. The prime rate is set by commercial banks and is the best rate that lenders will charge their most creditworthy customers. It is typically based on the underlying federal funds rate.
Though the Federal Reserve doesn’t directly determine prime rates, it does control the federal funds rate. Because the prime rate is based on the Federal Reserve’s federal funds rate, the prime rate is often impacted by rate hikes or rate reductions.
The Federal Reserve can raise the federal funds rate based on economic conditions to influence economic behaviors. In turn, variable interest rates, such as HELOC interest rates, can increase over time in response to rate hikes.
7. Refinance Your HELOC to a Lower Rate
If you already have a HELOC, you may qualify to refinance your line of credit to get a lower interest rate. It’s important to monitor rate movements to determine whether a refinance would be beneficial for you. If you can refinance with a lower rate, you may have smaller monthly payments and accrue interest at a lower rate than you would have with your original HELOC.
When considering refinancing, however, make sure you understand all the costs involved, such as origination fees, annual fees and other closing costs. There also may be prepayment penalties associated with paying off your existing credit line early. Additionally, refinancing your HELOC likely means you will start a new repayment period, potentially costing you more in interest in the long run.
If you need additional funds, you can also consider a cash-out refinance or a home equity loan. Cash-out refinancing involves replacing the current loan on your home with a new loan at a higher market value. This allows you to repay the old loan on your home and get the remaining balance — your equity in the home — in cash as a lump sum.
8. Maintain Good Financial Habits
If you’re looking to get the best rates over the lifetime of your HELOC, maintain long-term financial responsibility. Healthy financial habits practiced consistently can get you the best rates possible because it shows lenders you are more likely to make repayments on time.
Continually monitor your credit and practice good money management skills to qualify for preferable interest rates from lenders and increase your ability to make payments on your current and future financial obligations.
When it comes to securing a home equity line of credit, you want to get the best interest rate available. Because HELOCs allow you to borrow against the equity in your house, you should borrow at an interest rate that you can afford while lowering your overall interest payments.
Use the primary tactics outlined above to get the greatest rate on a HELOC. Compare HELOC lenders and do not be afraid to haggle for the best interest rates and terms. Consider alternatives such as rate locking or adding a co-borrower to your line of credit to lower the total interest you pay throughout the life of your HELOC.
How to Get the Most Out of a HELOC?
HELOCs tend to be taken out for big-ticket expenses: The minimum line of credit you can establish is $10,000, and $30,000 is a common floor for many lenders.
1. Home improvements or repairs
One of the most popular reasons for opening a HELOC relates to home renovations. That’s partly due to the tax advantages: The interest you pay can be deducted on your tax return if the funds are used to substantially improve or repair the home. Also, because a HELOC allows for accessing large amounts of money over time as needed, it can be especially useful for the long-term projects that remodel and renovations so often turn out to be.
Home improvements can increase the overall value of your home, making this specific HELOC use case a wise investment. A garage door replacement recoups over 100 percent of its cost, according to Remodeling’s Cost vs. Value 2023 survey, for example, while a minor kitchen remodeling returns 86 percent.
A HELOC can also be used to make aging-in-place or disability modifications, such as creating a first-floor bathroom or bedroom, widening doorways, or installing a curb-less shower, that make it more accommodating to physical needs. Again, the interest on the borrowed sums could be tax-deductible if you itemize on your tax return.
It’s not unusual for homeowners to access the equity in their homes to buy additional real estate. You could use a HELOC for a down payment on a new primary residence, a strategy known as piggybacking.
2. Paying for education
Homeowners can use HELOCs to pay for the cost of college tuition. This sort of extended expense is ideal for the HELOC structure: You draw funds as you need them — for a semester or a year — owing interest solely on what you actually take out. You (or your child) can also start paying back the debt sooner, instead of being saddled with it all at once after graduation.
Be sure your lender allows HELOCs to be used for this purpose. You’ll also want to investigate all possible student loan options before taking this route, especially federal Direct PLUS Loans (which parents take out). You’d want prevailing HELOC rates to be lower or at least competitive.
3. Using as an emergency fund
It’s always a good idea to have an emergency fund that includes three to six months of living expenses. If you don’t, and the unexpected happens, a HELOC can be used to help cover some of these nasty surprise costs, providing a source for cash fairly quickly (though not as fast as some personal loans).
When using a HELOC for this purpose, however, it’s a good idea to have a repayment plan, so you can aim to start proactively saving. You can’t use a HELOC as an emergency fund forever. The draw period of a HELOC (when you can access funds) lasts about a decade at most. After that, you’ll need another source of ready money.
4. Consolidating and paying off high-interest debt
The credit card bills have piled up on you — either over the years or due to a big expense, like a child’s wedding. Either way, a HELOC can get you out from under, as it generally offers a lower interest rate than unsecured loans, and certainly a lower rate than your credit card’s APR. So it’s a good choice for paying off credit cards or consolidating other types of high-interest debt.
However, be careful. “Using a HELOC to consolidate debt is only a reasonable option if the individual has dealt with their spending issues; otherwise, digging a bigger hole of debt is a likely outcome,” says Steve Sexton, CEO of Sexton Advisory Group, a San Diego, Calif.-based firm of financial advisors.
You can also use a HELOC to pay off student loans but understand the tradeoffs. Federal student loans, for instance, offer forbearance, deferment, and income-driven repayment options should you face unexpected financial troubles. Once you’ve retired your loans, you will no longer have access to these programs — and of course, they won’t apply to your HELOC debt.
5. Starting a business
A HELOC can provide seed money to take your side hustle to the next level or provide a stream of cash to fund expenses for an existing business. A HELOC’s interest rates may be lower than those of a comparable business loan. And because a HELOC is a secured loan — meaning your home is used to back it — it may be easier to get approved for one.
Remember, the fact that your home is collateral for a HELOC also has its downsides. If your business fails or you experience unexpected financial challenges that make it difficult to remain current on loan payments, the lender can foreclose on your home.
Bottom Line
Tapping into your HELOC for retirement can be a convenient and cost-effective way to access large sums of money at potentially lower interest rates. It may be worth it to use home equity for aging-in-place home modifications or sudden repairs, or clearing long-standing debts. Or maybe even to pay off your mortgage, if the HELOC offers a better (i.e., lower) interest rate.
However, using a HELOC to pay ongoing, everyday expenses is not such a great idea: going into debt to make up for budget shortfalls rarely is. Also, if you’re a retiree with limited income, you run the risk of losing your home if you miss monthly payments — and remember, a HELOC’s fluctuating rate can easily cause them to rise unexpectedly. Additionally, taking out a HELOC impacts the value of your home when you die, complicating matters for your survivors and reducing their proceeds if they sell (as it will have to be repaid in full).
